Transforming growth factor-beta (TGF-beta) controls a diverse set of cellular processes, and its canonical signaling is mediated via TGF-beta-induced phosphorylation of receptor-activated Smads (2 and 3) at the C-terminal SXS motif. We recently discovered that PPM1A can dephosphorylate Smad2/3 at the C-terminal SXS motif, implicating a critical role for phosphatases in regulating TGF-beta signaling. Smad2/3 activity is also regulated by phosphorylation in the linker region (and N terminus) by a variety of intracellular kinases, making it a critical platform for cross-talk between TGF-beta and other signaling pathways. Using a functional genomic approach, we identified the small C-terminal domain phosphatase 1 (SCP1) as a specific phosphatase for Smad2/3 dephosphorylation in the linker and N terminus. A catalytically inactive SCP1 mutant (dnSCP1) had no effect on Smad2/3 phosphorylation in vitro or in vivo. Of the other FCP/SCP family members SCP2 and SCP3, but not FCP1, could also dephosphorylate Smad2/3 in the linker/N terminus. Depletion of SCP1/2/3 enhanced Smad2/3 linker phosphorylation. SCP1 increased TGF-beta-induced transcriptional activity in agreement with the idea that phosphorylation in the Smad2/3 linker must be removed for a full transcriptional response. SCP1 overexpression also counteracts the inhibitory effect of epidermal growth factor on TGF-beta-induced p15 expression. Taken together, this work identifies the first example of a Smad2/3 linker phosphatase(s) and reveals an important new substrate for SCPs.